Why Stockbrokers Don’t Really Work For You

If you're like most investors, you probably consider your broker to be your adviser when it comes to investments. But there is a huge distinction between the categories of broker and adviser, a difference that could be very costly.

No matter what the title, the most critical ingredients in this decision revolve around expertise, experience and integrity. That said, there is a legal difference between the obligations of a stockbroker or “registered representative” and a registered investment adviser. The investment adviser pledges to put his or her client’s interests first. That would require full disclosure of all costs and commissions, as well as any potential conflicts of interest. It’s a standard set by the Investment Advisers Act of 1940 and affirmed by the Supreme Court. It's called a "fiduciary duty."

But stockbrokers are only required by rule to “know your customer” and to offer products that are “suitable.” Brokers have been excluded from the fiduciary duties required of investment advisers as long as any advice they give is “solely incidental” to their brokerage services. That's a huge distinction, one that is little recognized by most investors, who naively assume the “expert” they are consulting is required to be their advocate. Those distinctions were made long before there were "wrap accounts" and "managed accounts" sold by brokers. And those lines were drawn when insurance companies offered few, if any, investment-type accounts such as tax-deferred annuities or universal life policies that include investment alternatives.

The rules were created long before you could walk into a bank, expecting to buy an FDIC-insured certificate of deposit, and instead find yourself in the “investment department” being talked into a bond fund or annuity. They were outlined before the blurring of titles for salespeople for all of those products.

A group of highly respected economists, investment advisers, financial planners and journalists (including me) are publicly calling for proposed financial reform legislation to require the fiduciary standard to be applied to all who provide financial advice. John C. Bogle, founder of the Vanguard Group and a signer on the petition, says Congress needs to act to affirm the basic principle that when rendering investment advice, “no man can serve two masters.”

A provision in the financial reform legislation, introduced by Sen. Chris Dodd, D-Conn., would require a study about the benefits of extending the fiduciary standard to stockbrokers. Asking brokers to adhere to the highest standards of responsibility is hardly an issue that should raise debate. Most brokers agree this is a good idea, but Wall Street firms and the insurance industry seem to be dragging their feet. If brokers are required to put their clients’ interest ahead of their own, they'd be selling no-load or index funds. Insurance salespeople couldn't sell annuities that are loaded with fees, commissions and penalties without full disclosure -- and counseling their prospects on lower-cost, similar alternatives. The new awareness would increase product competition and bring down profit margins. That’s hardly a revolutionary idea, nor is it one that should really threaten the Street.

Thirty-five years ago, Wall Street deregulated brokerage commissions in an emotional event that was called “May Day,” not only because it occurred on May 1, 1975. The competition that ensued did not drive the best firms out of business, as many had predicted. More recently, we've seen full disclosure of everything from new car costs to airline fares, and the intense competition raised by full disclosure has brought on new winners, like Southwest Airlines. But in every case, consumers have benefited by full disclosure, a basic premise of the fiduciary standard.

In these days of general public disillusion with Wall Street, any idea that encourages the public to feel their financial brokers are on their side is an idea that should be trumpeted instead of buried in a “study.”

We need faith in the free markets to bring our economy back into growth mode -- the only way to provide jobs and all the government benefits we have promised. And we need investors in our markets to benefit from that growth and provide capital for future development. It's time for all financial salespeople to adhere to a fiduciary standard. If we keep operating on a "buyer beware" standard, then don't be surprised if wary buyers avoid the markets entirely.

Terry Savage is a registered investment adviser and is on the board of the Chicago Mercantile Exchange. She is the author of “The New Savage Number: How Much Money Do You Really Need to Retire?” and can be reached at www.terrysavage.com.